Can an explanation be found for the behavior of Indian stock market over the last month? As a keen, and practicing, market analyst (and participant) over the last 10 years, let me state that I have never before endured anything even closely approximating what has been witnessed in India. Not the Kuwait war crisis, not the Mexican devaluation, and not even the East Asian crisis of 1997-1998. Unusual market behavior, both up and down, is intrinsic to any market. The boom in software, and the subsequent bust, are extremely “normal” events. What is not normal, by definition, is if there is no explanation for a market to go up, or down, by about 20 percent in a short space of a few weeks. Which is what has happened in India. And an attempted explanation of this bizarre market behaviour follows.

Central to any analysis of stock markets anywhere, especially in the nineties, is the behavior of US markets. It is the benchmark and all markets take their cue from what happens there. Even in the India of the swadeshi CPM Marxists, RSS nationalists, and the converted catholic Congress. So any reading of the Indian stock market must take into account global trends.

But correlation with Nasdaq does not mean that if Nasdaq goes down by 50 percent so should the Hang Seng or the Sensex. Indeed, the comparison of East Asian stock markets is more apt with the broader indices like the S&P 500. This US index is 26 percent off its highs, while the Hang Seng is down 27 percent, the Sensex down 39 percent, and the Korean index is down 49 percent. Correlation means that the trends are the same, and that is indeed the case.

But correlation does not mean, or imply, that the magnitude of change is the same. Domestic factors intervene and mediate the global trend. Two important domestic factors have affected the Indian market relative to a downward global trend. First, the budget presented on Feb. 28, and second, the revelations about the BJP president brazenly accepting a bribe.

Can one estimate the magnitude of domestic factors? Yes. The method is straightforward. The end of every calendar year represents short-term equilibrium as fund managers and investors clean their books. The end of the first quarter (March 31) is another short-term equilibrium point. The difference between these two "equilibriums" is the measure of non-domestic change. This is true for all markets except those with important domestic news. India, with its budget at the end of every February, provides a short-term deviation from external factors. Thus, the 3 month change, in end March of every year, is the sum of global factors and the contribution, positive or negative, of the Indian budget.

The table reports this ex-post estimate of the goodness of each budget for the last five years. This goodness is defined as excess growth in Indian stock prices relative to the average percentage change of four East Asian markets - Hong Kong, Korea, Singapore and Taiwan. Nasdaq and S&P affects these markets, and we in turn are affected in an analogous fashion. For each budget date, the one month later 3-month change is taken as "equilibrium" i.e. end March figures if budget is presented end-Feb, or end June 3 month change if budget is presented on June 1, as it was in 1998.

The derived goodness of the budget fits in well with conventional wisdom. The 1998 nuclear bomb dud budget led to a 19 percent decline in the market. The East Asian markets fell more, due to their own domestic factors (East Asian crisis). Chidambaram's dream budget was worth an extra 16 percent gain in the Sensex (for this year the March 30 values are taken because on March 31st an additional political event - the government falling due to the Kesri plug - led to an 8 percent decline )

March 2001 is not yet here, but if the previous "good" budgets are any indication, then the Indian market should out-perform East Asian markets by a minimum of 16 percent - and closer to 25 percent given that, by universal acknowledgement, this years budget was considerably better than the dream budget of 1997. The East Asian markets, today, are 1 percent above end-year levels. Thus today, the "equilibrium" level of the Indian stock is 5004 - 26 percent higher than the end-year value of 3972 given by a 1 percent East Asian gain and an extra 25 percent Indian gain.

If the calculations reported in the table are even broadly correct, then one obtains a consistent explanation of the bear market that has engulfed Indian markets. As every trader and investor knows, it is extraordinarily foolish to "fight the tape". With the large 4.4 percent gain in the Indian market on Feb. 28th , and the very market-friendly fundamentals, and the average 8 percent gain of East Asian markets on that date (relative to Dec. 31, 2000), the likelihood of a significant absolute rally in Indian markets was very high - and a relative (to other markets) rally almost a certainty. Faced with such a tape, only the very bravely foolish would have sold - and successful fund managers, and brokers are definitely not part of this moronic camp.

So why did the Indian market go onto a tailspin? The only consistent explanation is that some major operators/brokers knew about the revelations contained in the Tehelka tapes. Assume that you had this information, and that you (naturally!) wanted to take advantage of it. What would you do? First, you would not sell securities in either your name or your firm's name - better to do it through third parties, preferably at the Calcutta stock exchange. Second, you would not be worried if the market rallied in your face (as it did on Feb. 28th ) because you knew that political news would hit the screen at any time - and almost whenever you willed it! Indeed, you would sell more on every rally - a slam dunk . Third, you would sell those stocks where the market was very vulnerable. The market was rife with news about the payment problems faced by Mr. Ketan Parekh (KP) and associates in a few of his selected stocks. So the no-brainer trade is made more no-brainer by targeting specific KP stocks. Fourth, you would sleep well at night, with your extraordinary profits, knowing full well that the regulators, market participants etc. were completely missing the scent by worrying about payment problems of a few brokers. End of a very profitable coup.

Or is it ?